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Trail shows math doesn’t add up

25 July 2015

In a regular review of the agri sector, we came across a regional listed agri-business company whose business model seemed sound and worth a thorough look. But as we dug deeper, more and more interesting issues were revealed.

This agri-business company first made headlines, as the founder, who is also the chairman, became this country’s youngest self-made billionaire below the age of 30. The chairman’s first claim to fame was due to his success story of turning his family’s chain of mum and pop stores into the country’s largest distributor of seeds, fertilisers and pesticides. Besides trading in raw materials and seeds for planting, the family business also possessed the technology to ward off pests in the farming industry.

Despite the chairman’s initial success, it turned out however, that selling what farmers needed was not enough for this young man. The young billionaire diversified aggressively by creating new brands, opened a string of over 100 shops, signed joint ventures with foreign companies and even bought a meat processing business. Enjoying his success, he would proudly proclaim, “My business is going directly from farm to table.”

His strategy was to sell his own brand range of insect and weed killers, as well as to have 116 new stores in which to sell them. Bolstered, no doubt, by these quick wins, he then commissioned his country’s Government Franchise Corporation to do up a manual for an agricultural business franchise. He was of the view that he could franchise what he had created.

In the middle of building his own brand and creating franchises, he decided to have his company use corn to make animal feed. He subsequently partnered with a South American firm to boost his company’s corn stocks, going so far as to harness this Latin American company’s agro-technology to harvest the crop.

The technology from Latin America was such that it could be used to prepare land for planting, sow seeds, increase their yield and extract corn kernels from their cobs neatly and quickly. Sounds all good on paper but this also meant, of course, that the technology made many local labourers redundant, and there was also evidence that this method of planting significantly eroded the nutrients in the soil.

The ambitious young billionaire was, however, in no mood to slow down or be concerned about lost jobs or spoiling fertile land. He went on to team up with one of China’s biggest agricultural company to produce its own animal feed, by importing soya beans from Latin America. These soya beans and corn were then processed in China’s mills, packaged and sold under the local in-house brand. 

The deals announced were very impressive but despite all this media news flow, the stock did not have local following. Any astute investor has to ask why.

As with many whiz kids, we could see that the meticulous day-to-day detailed approach needed in running a company was lacking.

Red flags were first raised when questions were asked as to how this young man was able to build a multi-billion dollar business in such a short time, and without any trail of funding. There were no banks, venture capitalists or private equity investors involved in taking this company from farm to the capital market. So how was this done?

As with most investments, it is normally quite easy to see if internal funding could have been possible by reviewing the filed company’s audited statements to the company commission or even the tax returns of the individuals who were the owners of this company. The money trail found that this chairman had failed to declare the amount of shares he actually owned in the company to the internal revenue department. He should have known that this detail, or rather lack thereof, was something that the authorities and potential investors could pick up only too easily.

Sure enough, the income tax bureau filed a tax evasion complaint against him for allegedly failing to provide accurate information about his income tax returns for 2011. First scary sign. Surely, as an owner, you would know how many shares you own?

The audit trail which continued on the chairman revealed that this errant businessman is actually no stranger to skirmishes with regulators. In November 2012, the Securities and Exchange Commission (SEC) had sued him for apparently manipulating his company’s listed share price. Surprised?

The audit also revealed that that the billionaire chairman had grossly under-declared his earnings and, in consequence, paid as little as US$10,000 in income tax between 2009 and 2010 and US$100,000 in 2011. So, now not only did he not declare the correct number of shares that he owned, he also under declared his earnings.

Further, not only did his personal tax filings raise some concerns, the filed records with the company commission showed that his company had declared gross sales of only US$2.76mil for the period 2005 to 2011. However, what really caught the attention of investors was that the accounts showed the billionaire chairman had invested quite a bit of money in his own company, ranging from US$600,000 to US$217.7mil between 2010 and 2012.

Comparing all the available documents, there was a clear discrepancy between his declared income and the amount he invested in the company during the period in question. This discrepancy does not even take into account any expenses he may have incurred. In fact, even the aggregate amount of his declared income for the last seven years is not adequate to address the sum of his investments for the taxable year of 2011. So where was the money from?

This is a simple case that on paper, the company appeared to be on a major growth trajectory. However, with all the unanswered questions on the chairman’s personal integrity, it would certainly be a challenge to ensure his business is run in the best interest of all shareholders. This story isn’t too far-fetched, and is common with high-octane owners like this. The only option for investors in situations like this, is to not invest and to stay clear.




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